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What Ails the Chinese Economy? - Real Time Insight

In news last week, we heard much on China's slowdown in
growth. With over 40% of all the world's growth coming from
China in recent years, this is no small matter for equity
investors.

I am of the mind that this 2012 slowdown is the back end of the
stimulus put in place back in 2009. Three years later, there
is a needed period of slow growth to cool down prices. This
puts in place a more stable market framework for expansion.
That puts me in the cyclical camp.

To my mind, there are two large camps of opinion on what slowed
down China.

Opinions fall squarely into two buckets.

Structural
means the slowdown is coming from something unbalanced inside the
China system. It is a diffuse build-up of long-term problems
to deal with.
Cyclical
means China's monetary and fiscal authorities restricted demand and
spending. A Cyclical slowdown means the Chinese economy's
demand will ebb-and-flow solely a result of these actions.

China's CYCLICAL slowdown ended in July, when the People's Bank
of China began to cut its interest rates. The tightening
worked well to extinguish speculation that drove house prices
higher. In this story, housing has bottomed and auto sales -
40% of China's consumer spending - should pick up. Housing
prices have come down 10 to 15 percent from the highs. And
wage growth at 10 to 20 percent a year over this period means
affordability can be up 30 to 50 percent now.

The SECULAR slowdown camp sees slow growth caused by a huge lack
of reform. China's entrepreneurs are crushed by special interests,
entrenched state owned enterprise (SOEs), and a rising wealth
divide. This created social unrest (there are many unreported
walkouts and strikes) and political risks. This camp
believe China's social issues are behind the slowdown. They
also believe a secular slowdown could soon be caused by China's one
child only demographic time bomb

In some structural stories, Chinese exports are still very
competitive. But there are numerous reports of heavy
industrial and raw material overcapacity. So China needs to
move up the value chain. China policymakers need to use this
cycle to push through the painful process of moving up the value
chain.

So what is the
dominant
force behind the China slowdown?

Is it cyclical? Are we about to see China surge forward on
a wave of consumer spending in autos and housing and other consumer
discretionary goods?

Or is it structural? Is there a need for deep structural
reforms to kick-start the Chinese economy? Do policymakers --
new policymakers that come in January -- need to do much more
serious work before the previous high level of growth resumes?

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